American Funds offers a variety of 401(k) plan solutions and investment options to help employers and investors meet their needs. To find out which options are best for you, talk to your company’s financial professional.
Any employer, except government entities, can offer a 401(k) plan. Here are the basics of 401(k) plans, although plan rules may vary:
Participant Contributions
Each employee participating in the plan determines how much money is to be automatically contributed from each paycheck. Generally, participants can invest an annual maximum of $19,500 in 2020, or $26,000 for those 50 or older.
- Traditional contributions (that is, not Roth contributions) are made before taxes are deducted, which means that income taxes are not paid at the time of investment. Instead, taxes are paid when the money is withdrawn, including on any earnings.
- Plans may allow Roth contributions, which are made with money that has been taxed. Money that’s been taxed won’t be taxed again. Additionally, earnings are tax- and penalty-free for qualified distributions.*
* Withdrawals from Roth accounts are tax- and penalty-free if the account was established at least 5 years before, and if the participant is at least 59½ years old, disabled or deceased. For nonqualified distributions, earnings are taxable and may be subject to a 10% early withdrawal penalty.
Investment Options
The investments available in the plan — the most common options are mutual funds — are determined by the employer, who may get help from the plan's financial professional or a third-party fiduciary. Participants can decide which of the options to use.
Employer Contributions
As an added incentive for their employees to invest, some employers make “matching” contributions to participant accounts. Some employers match employee contributions dollar for dollar, while others contribute a percentage of what employees contribute. Employers may also make discretionary contributions into participant accounts.
Vesting
Participants always own 100% of their salary-deferral contributions. With employer contributions, participants often become vested over time.
Distributions
Distributions from 401(k) plans are generally allowed at age 59½ or in the case of disability. However, plans may allow ways to access 401(k) money early.
Options When Employment Ends
There are a number of options an employee can take when leaving the job:
- Roll over to an IRA — Rolling 401(k) assets to an IRA can allow participants to keep the same tax benefits, avoid penalties, choose from a wider range of investment options and, with a Roth IRA, avoid having to take distributions before they’re needed.
- Stay in the old plan — If the account balance is large enough, participants may be able to remain in the plan and keep the same benefits, although fees may increase and they won’t be able to make contributions.
- Move to a new plan — If the participant’s new employer allows rollovers, participants can keep the tax benefits while consolidating their retirement plan money.
- Cash out — Participants will owe applicable taxes and, if not yet age 59½, possible penalties.
To learn more about your options, contact your financial professional.
